Corporate Culture and the Role of Boards Report of Observations
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CORPORATE CULTURE AND THE ROLE OF BOARDS REPORT OF OBSERVATIONS July 2016 #culturecoalition Coalition partners Research partner INDEPENDENT AUDIT The FRC is responsible for promoting high quality corporate governance and reporting to foster investment. We set the UK Corporate Governance and Stewardship Codes as well as UK standards for accounting, auditing and actuarial work. We represent UK interests in international standard-setting. We also monitor and take action to promote the quality of corporate reporting and auditing. We operate independent disciplinary arrangements for accountants and actuaries, and oversee the regulatory activities of the accountancy and actuarial professional bodies. The FRC does not accept any liability to any party for any loss, damage or costs howsoever arising, whether directly or indirectly, whether in contract, tort or otherwise from any action or decision taken (or not taken) as a result of any person relying on or otherwise using this document or arising from any omission from it. © The Financial Reporting Council Limited 2016 The Financial Reporting Council Limited is a company limited by guarantee. Registered in England number 2486368. Registered Office: 8th Floor, 125 London Wall, London EC2Y 5AS CONTENTS Culture report: Corporate Culture and the Role of Boards 1 FOREWORD The way companies create and sustain value is directly linked to the debate about the role of business in society. A healthy culture both protects and generates value. It is therefore important to have a continuous focus on culture, rather A healthy culture both than wait for a crisis. Poor behaviour can protects and generates be exacerbated when companies come value. It is therefore under pressure. A strong culture will endure important to have in times of stress and mitigate the impact. a continuous focus This is essential in dealing effectively with on culture, rather than risk and maintaining resilient performance. wait for a crisis. Strong governance underpins a healthy culture, and boards should demonstrate good practice in the boardroom and Sir Winfried Bischoff promote good governance throughout the Chairman business. The company as a whole must Financial Reporting Council demonstrate openness and accountability, and should engage constructively with shareholders and wider stakeholders There needs to be a concerted effort about culture. to improve trust in the motivations and integrity of business. Rules and sanctions In taking action on culture, I should like clearly have their place, but will not on their all those involved to consider three own deliver productive behaviours over important issues: the long-term. This report looks at the increasing importance which corporate Connect purpose and strategy to culture. culture plays in delivering long-term Establishing a company’s overall purpose business and economic success. is crucial in supporting the values and driving the correct behaviours. The strategy to achieve a company’s purpose should reflect the values and culture of the company and should not be developed in isolation. Boards should oversee both. 2 Financial Reporting Council The strategy to achieve a company’s purpose should reflect the values and culture of the company and should not be developed in isolation. Boards should oversee both. Align values and incentives. Recruitment, I also ask investors and other stakeholders to performance management and reward engage constructively to build respect and should support and encourage behaviours trust, and work with companies to achieve Investors should consistent with the company’s purpose, long-term value. Investors should consider consider carefully values, strategy and business model. carefully how their behaviour can affect how their behaviour Financial and non-financial incentives company behaviour and understand how can affect company should be appropriately balanced and their motivations drive company incentives. behaviour and linked to behavioural objectives. In its research for this project the FRC has understand how their Assess and measure. Boards should give seen abundant evidence that companies motivations drive careful thought to how culture is assessed and boards are taking action to shape their company incentives. and reported on. A wide range of potential culture in order to encourage investment. indicators are available. Companies This will drive efficient capital allocation, can choose and monitor those that are improve productivity and deliver sustainable appropriate to the business and the value. We commend these companies and outcomes they seek. Objectively assessing encourage them to maintain this focus. We culture involves interpreting information encourage those companies yet to take sensitively to gain practical insight. action, to consider the benefits of addressing this important issue. Sir Winfried Bischoff Chairman July 2016 Culture report: Corporate Culture and the Role of Boards 3 INTRODUCTION The FRC’s mission is to promote high quality corporate governance and reporting to foster investment. The UK has a good reputation in this field which has underpinned a substantial amount of business success, but it is by no means perfect. There are valid questions about how The view of the FRC is that the UK effectively existing corporate governance governance model remains an efficient arrangements address the board’s and effective means of meeting the responsibilities to stakeholders other objectives of, and arbitrating between, than shareholders, as envisaged in the the many stakeholders in the market. Companies Act 2006. The framework The combination of legislation, regulation of corporate governance in the UK is based and codes provides a flexible framework on a shareholder primacy and value model for companies and their stakeholders of equity capitalism. There is a continuing to pursue their objectives and achieve debate about what this means. One view long-term success. Success depends, is that it necessarily involves a short-term however, on the spirit with which focus since shareholders are most companies and investors apply the interested in the certainty of more principles and use the flexibility they have. immediate financial returns. This inevitably has consequences in terms of the The FRC embarked on this project to gain decisions and actions which companies a better understanding of how boards are and investors take. Short-termism can drive currently addressing culture, to encourage poor business behaviours and conduct, discussion and debate, and to identify and for example: inappropriate incentives, share good practice to help companies. market-rigging, poor customer service, This report seeks to address how boards low levels of investment and opaque and executive management can steer financial structures and arrangements. corporate behaviour to create a culture that will deliver sustainable good performance. This report looks at the increasing importance which corporate culture plays in delivering long-term business and economic success – an issue very much to the fore this year. In doing so it focuses on the role of the board in shaping, monitoring and overseeing culture. 4 Financial Reporting Council The view of the FRC is that the UK governance model remains an efficient and effective means of meeting the objectives of, and arbitrating between, the many stakeholders in the market. With the help of our partners in the project, The FRC is very grateful to all those who the Chartered Institute of Management responded to our invitation to participate, Meetings Accountants (CIMA), the City Values and would particularly like to thank our Forum, the Chartered Institute of Personnel partners for their contribution and guidance and Development (CIPD), the Institute of throughout the project. We would also like Business Ethics (IBE) and the Chartered to thank Independent Audit Limited for 300 Institute of Internal Auditors (IIA), we their invaluable work in surveying and focused on broad aspects of company interviewing chairmen, chief executives culture – the role of the board in delivering and company secretaries. Interviews sustainable success, engagement with employees, customers, shareholders and The report is designed to stimulate thinking other stakeholders, how to embed the around the role of boards in relation to desired culture, and how to assess culture. culture, and encourage boards to reflect 23 Our partners have published separate on what they are currently doing. Over the reports on each of these aspects, listed next year we will be monitoring reporting FTSE chief executives in Appendix 2. on culture by companies and investors. We welcome feedback on this report, This report was informed by an extensive which will inform our review of the literature review, the submissions from our Guidance on Board Effectiveness in 2017. 58 partners in the coalition, interviews with Please email: [email protected] to FTSE chairmen FTSE chairmen and chief executives, get in touch. surveys of heads of internal audit, chairmen and company secretaries, and many roundtables and discussions with investors, Surveys a range of professionals working in companies, and organisations with expertise and experience in company culture. 44 FTSE chairmen Culture report: Corporate Culture and the Role of Boards 5 EXECUTIVE SUMMARY Culture in a corporate context can be defined as a combination of the values, DEMONSTRATE attitudes and behaviours manifested by a company in its operations and relations LEADERSHIP with its stakeholders.